Unpleasant Surprises Could Be In Store For Yamazaki Baking Co., Ltd.'s (TSE:2212) Shares

When close to half the companies in Japan have price-to-earnings ratios (or "P/E's") below 14x, you may consider Yamazaki Baking Co., Ltd. (TSE:2212) as a stock to potentially avoid with its 19.6x P/E ratio. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the elevated P/E.

Yamazaki Baking certainly has been doing a good job lately as it's been growing earnings more than most other companies. The P/E is probably high because investors think this strong earnings performance will continue. If not, then existing shareholders might be a little nervous about the viability of the share price.

View our latest analysis for Yamazaki Baking

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What Are Growth Metrics Telling Us About The High P/E?

Yamazaki Baking's P/E ratio would be typical for a company that's expected to deliver solid growth, and importantly, perform better than the market.

Retrospectively, the last year delivered an exceptional 159% gain to the company's bottom line. The latest three year period has also seen an excellent 441% overall rise in EPS, aided by its short-term performance. Therefore, it's fair to say the earnings growth recently has been superb for the company.

Turning to the outlook, the next three years should generate growth of 5.1% each year as estimated by the seven analysts watching the company. That's shaping up to be materially lower than the 9.7% per annum growth forecast for the broader market.

With this information, we find it concerning that Yamazaki Baking is trading at a P/E higher than the market. It seems most investors are hoping for a turnaround in the company's business prospects, but the analyst cohort is not so confident this will happen. There's a good chance these shareholders are setting themselves up for future disappointment if the P/E falls to levels more in line with the growth outlook.

The Bottom Line On Yamazaki Baking's P/E

It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

We've established that Yamazaki Baking currently trades on a much higher than expected P/E since its forecast growth is lower than the wider market. Right now we are increasingly uncomfortable with the high P/E as the predicted future earnings aren't likely to support such positive sentiment for long. This places shareholders' investments at significant risk and potential investors in danger of paying an excessive premium.

Many other vital risk factors can be found on the company's balance sheet. Take a look at our free balance sheet analysis for Yamazaki Baking with six simple checks on some of these key factors.

If you're unsure about the strength of Yamazaki Baking's business, why not explore our interactive list of stocks with solid business fundamentals for some other companies you may have missed.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com